Taxes – planning ahead

Now that you know the basics of how a tax form works, we can talk a little about how to plan ahead to make your 1040 work for you even more.

Deduction Bunching

Bunching your deductions is what people call it when they itemize every other year and take the standard deduction in the in-between years. To do this, people save up their deductions for 2008 (when they don’t need them since they are taking the standard deduction) and use them in 2009. You can’t carry them over or anything, it takes a lot of planning. Deductions are deductible in the year paid, so you just need to plan when you are going to pay for things. Here are a few ways to do it:

  • save up your charitable contributions in 2008 and make them in January 2009.
  • pay your property taxes 2008 property taxes in January 2009 and pay your 2010 property taxes in December 2009. So then you have 3 years of property taxes you can deduct on one return.
  • likewise, you can pay other bills in this manner, depending on what year you need to deduct it: medical bills, personal property taxes, etc.
  • you might even find it beneficial to use the same system for certain credits if you cannot take them every year. For example, the Hope credit (an education credit) can only be used twice per student. So, you might want to pay next year’s Spring tuition in December so you can maximize that credit. You’ll have to do the math and see what is best for you.

IRA contributions

Contributions to an IRA (using 2008 as an example) can be made from January 1, 2008 through April 15, 2009. This means that between January 1, 2009 and April 15, 2009 you can choose whether you want your contributions to be for 2008 or 2009. Again, figuring out what is best for you will take a little math. If your income is low enough to qualify you for the retirement savings contributions credit, you’ll really want to try to take advantage of that. Traditional IRA contributions actually lower your AGI, so that could help your deductions as well, especially if you have medical or job-related expenses, since both of those use your AGI to compute the amount you can deduct.

Withholding

Once you have estimated your tax situation for the year, you should adjust your withholdings that come out of your paycheck. You can do this with a form W4. All you need to do is figure out how much you need to pay in taxes for the year, divide by the number of times you get paid a year, and that is how much you need taken out of your paychecks. There’s no sense in giving the government an interest-free loan, which is basically what you’re doing if you get a huge refund every year.

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